Mostly rational politics, with occasional rants about how a few crazy Republicans are ruining the country.

Support The Jaker

Tuesday, July 12, 2005

Laffer Curve 101

Today's WSJ contains an editorial crediting Bush's tax cuts with the current economic forecast of a lower-than-previously-projected 2005 deficit. [I don't subsribe to the WSJ, but thanks to my friend Bryce I can reprint the article in the full post - click on "Link" at the end of this post].

The Journal's argument relies on the Laffer Curve - a favorite chart of supply siders:

The curve shows that at 0% and 100% tax rates, the federal government would collect $0 in tax revenue (at 0% there are no taxes; at 100% no one would choose to work). The ideal tax rate is T - whereby tax revenues are maximized and no one is disincentivized to work. Supply-siders argue that government is currently operating on the right of this curve, and that a tax cut will incentivize more people to work, thus raising the tax base and corresponding revenues.

Since tax revenues are increasing now after falling dramatically in 2001-2004, Republicans are saying it proves we're on the right side of the Laffer Curve and tax cuts are the right policy. What Republicans for the most part are totally ignoring is twofold:

1) It is corporate and capital gains tax revenues, not personal income tax revenues, that are largely fueling this year's tax revenue increase. Corporate and capital gains taxes aren't subject to the Laffer hypothesis - they are clearly a byproduct of a recovering economy independent of any stimulus caused by tax cuts.

More explicitly, and more importantly...

2) The economy has natural cycles. You can't simply enact a tax cut at the trough of a cycle (gee what was 2001-2003) and credit the tax cut for the recovery that was coming anyway.

So when Bush & Co. try to claim this one as justification for Reaganomics, don't let them have it. Cutting taxes for billionaires makes them work harder? Please. They'll just buying a bigger house in Aruba.

Disappearing DeficitJuly 12, 2005

Why is it that the dreaded federal budget deficit only commands screaming headlines when it's rising, not falling? And why is it that the deficit is portrayed as a fire-breathing, hydra-headed monster only when the press can portray the villain as "irresponsible tax cuts," not runaway federal spending?

We ask these questions in the wake of the great unreported fiscal story of 2005: the shrinking federal deficit. It's down by at least $100 billion because federal tax receipts have skyrocketed this year by 14.6% (or $204 billion) through June. Private economic forecasters now believe the budget deficit may come in at about 2.5% of GDP, which is in line with the historical average for the past 40 years. Given that we're fighting an expensive, must-win war on terror, these deficit numbers aren't too shabby.

Not even the most unbridled supply-sider predicted that President Bush's investment tax cuts would unleash such a spurt of tax receipts this year. But thanks to sustained economic growth, more Americans working and improved business profits, individual income tax receipts have shot up by 17.6%. Even more astonishing is the nearly 41% spike in corporate revenues. There's a fiscal lesson here that bears repeating: The best way to grow tax revenues is to grow the tax base, and that is what has happened this year.

Alas, what hasn't happened in Washington this year is federal spending restraint. Despite pious pledges from Mr. Bush and Republicans in Congress to trim spending growth to 4% this year, so far total nonmilitary spending is up 7.3%. Thanks to a 10% boost in Medicare (even before the prescription drug program hits next year), we now devote a larger share of the budget to health care than national defense -- notwithstanding that Congress has a clear Constitutional mandate to spend money on national security, but not so when it comes to funding gall bladder operations or Viagra.

During last year's Presidential campaign, Democrats ripped Mr. Bush for underfunding education -- which is incredible given that the Department of Education budget has jumped by a gravity-defying 20% this year and has more than doubled over Mr. Bush's tenure. One gets the sense that Republicans have thrown up their hands in despair and are pleading: Stop us before we spend again. All of this is to say that Washington doesn't have a budget deficit problem, it has a spending problem. Thank goodness for Mr. Bush's tax cuts or things would be much worse.